About Me

Friday, June 27, 2008

While the series of oil, food, and other commodity price hikes have punctured deep into the pockets of many Filipinos and other people around the world, they have also forced the Philippines to undertake what could be unthinkable if those price spikes did not happen: an income tax cut.

Under the Comprehensive Tax Reform Package (CTRP) that became a law in 1997, personal income tax system was among the most confiscatory in the world. Under that scheme, when a person has gross annual income of Php500,000 or more (net of a few deductions), the State will confiscate Php125,000 of the Php500,000 (leaving him/her with only Php375,000 disposable or after-tax income), and any amount above Php500,000, the State will further confiscate 32 percent of it. Perhaps a Php500,000 annual income was a “big” amount in 1997 when legislators made that law. But by mid-2000s, that amount was not that big and the tax system could push a middle income family into poverty level if there are plenty of expenses, like high health care cost for a sickly family member.

The new tax relief law, Republic Act No. 9502, promises to “correct” the confiscatory provisions by, among others, exempting minimum wage earners from paying personal income tax. In Metro Manila, at Php382 a day of basic pay and cost of living allowance, that’s equivalent to Php8,400 per month (22 working days/month) or Php109,200 per year (including 13th month pay). In addition, they increased personal exemption from Php25,000 to Php50,000 for all taxpayers, and additional deduction for qualified dependents from Php8,000 to Php25,000.

I think that the best tax policy that any government can give to its citizens is zero income tax, both personal and corporate, and for government to shift its main revenue source to consumption-based taxes. There are plenty of these types of taxes currently in place: value-added tax (VAT), excise tax, import tax, travel tax, amusement tax, real property tax, vehicle registration tax, and so on. An increase in VAT from the current 12 percent to 14 or 15 percent will not meet strong opposition if there is corresponding abolition, even a drastic cut, of income tax. In addition, there are plenty of business-related taxes currently in place: documentary stamp tax, percentage tax, franchise tax, capital gains tax, withholding tax on transactions with government, business permit tax, and so on.

Income tax is wrong both in theory and practice. Theory, income tax penalizes work and performance by productive people; while rewarding (recipient of tax collections) those in government bureaucracies and political leadership, and some less-industrious, less ambitious, or economically unlucky people. A number of people are poor because of laziness and personal irresponsibility, plus the incentives of various subsidies given by the state if one is poor.

Practice, out of 34 million employed Filipinos, both in public and private sectors, only less than 3 million are filing personal income tax. Well, if those who don't have to file because of automatic deduction are included, the figure could be around 10 million, but still too far from 34 million employed people. So many people are not paying income taxes, both rich and poor; professionals, and those in informal economies. In addition, those who work for multilateral institutions like the United Nations, the World Bank, the International Monetary Fund, the Asian Development Bank, the Organization Economic Cooperation and Development, USAID, the ASEAN Secretariat, and foreign embassies are not subject to automatic personal income tax deduction. If they file and pay income tax later, fine; if they don't, fine too. And people working in these institutions, especially the technical staff and consultants are earning big, many in six-digit monthly income, tax-free!

So a move to abolish personal income tax is simply to give justice to fixed-income earners, especially those in the private sector, and to correct the inefficiency of the tax system and the tax administration. In addition, any money retained in the paychecks of people and not taken in by the State in the form of income tax is money that will be spent on many other commodities and services. A tax cut is de facto "salary increase" and will go back to the economy in the form of higher domestic consumption, say repair or remodel an old house, or buy a new one, buy more hamburger and shoes, more office and school supplies, or hire a nanny for the kids, or more domestic travel. Even more international travels should not be spurned since other foreigners also come and spend their savings here.

In the case of corporate income tax, this is an illusion. This is because corporations do not pay taxes, people do – the firm owners and stockholders in the form of lower profit and investors equity, and the consumers in the form of higher prices. Corporations are just legal entity; they are not people.

Aside from higher domestic consumption, there will be billions of dollars of foreign investments that will come in – companies from high-tax countries in Europe and North America looking for "tax havens" that recognize their hard work. The jobs to be created locally will be enormous.

But a zero income tax is next to impossible to happen in this country. No country has also done it yet. So a low, flat income tax, say 10 percent – both personal and corporate – is the next best alternative which will give respite to many struggling businessmen and employees, as well as give additional revenues for the government. Even at this rate, the potential of big influx of foreign investors wanting to come in and escape the high taxes in Western Europe and North America should be considered. Think of the hundreds of thousands, if not millions, of jobs that will be created. Many Filipinos currently working abroad and endure the pain of being away from their families and relatives will have another employment alternative – right in the country itself.

One country that experienced fast economic growth because of the introduction of low, flat tax, is Slovakia. From being a communist state under the former Soviet Union, it adopted a market economy in 1991, after the Berlin wall collapsed. In 1994, it enacted a flat tax of 19 percent for both personal and corporate income. The effect was quick: in a few years, Slovakia became the "Detroit of Europe" with the entry of plenty of foreign car manufacturers – Western European, American, Japanese, and Korean car producers. GDP grew high and unemployment went down drastically.

Ireland is another "radical" economy: from 48 percent corporate income tax, it was cut down to a mere 12 percent! The volume of economic activity that transpired after this move, all other things being equal, was huge.

One consideration that other people ask if income tax has to come down to say, 10 percent flat rate, is where to get the money for more and better roads and other infrastructure. Simple: get the money from those consumption-based taxes. Better yet, allow more toll roads. Expenditures for these infrastructures will not come from taxes, but from corporate savings and investments that will make money from motorists who will use the road more often. This is very fair. If the toll road expressway is in Luzon, taxpayers from the Visayas and Mindanao will not be burdened in building and maintaining those highways. And even among those in Luzon, those who don't use the roads (say they don't have a car) need not fork out extra taxes for those roads; only those
who frequently use those toll roads.

A citizens’ movement to push a low, flat tax leading to an ultimate zero income tax after a few years transition, is now a big challenge for us.